There’s no doubt that money can be made by owning shares of unprofitable businesses. For example, although software-as-a-service business Salesforce.com lost money for years while it grew recurring revenue, if you held shares since 2005, you’d have done very well indeed. But the harsh reality is that very many loss making companies burn through all their cash and go bankrupt.
Given this risk, we thought we’d take a look at whether Magenta Therapeutics (NASDAQ:MGTA) shareholders should be worried about its cash burn. For the purposes of this article, cash burn is the annual rate at which an unprofitable company spends cash to fund its growth; its negative free cash flow. First, we’ll determine its cash runway by comparing its cash burn with its cash reserves.
When Might Magenta Therapeutics Run Out Of Money?
A company’s cash runway is the amount of time it would take to burn through its cash reserves at its current cash burn rate. In June 2019, Magenta Therapeutics had US$172m in cash, and was debt-free. Looking at the last year, the company burnt through US$62m. So it had a cash runway of about 2.8 years from June 2019. That’s decent, giving the company a couple years to develop its business. You can see how its cash balance has changed over time in the image below.
How Is Magenta Therapeutics’s Cash Burn Changing Over Time?
Magenta Therapeutics didn’t record any revenue over the last year, indicating that it’s an early stage company still developing its business. So while we can’t look to sales to understand growth, we can look at how the cash burn is changing to understand how expenditure is trending over time. During the last twelve months, its cash burn actually ramped up 84%. Oftentimes, increased cash burn simply means a company is accelerating its business development, but one should always be mindful that this causes the cash runway to shrink. Clearly, however, the crucial factor is whether the company will grow its business going forward. For that reason, it makes a lot of sense to take a look at our analyst forecasts for the company.
How Easily Can Magenta Therapeutics Raise Cash?
Given its cash burn trajectory, Magenta Therapeutics shareholders may wish to consider how easily it could raise more cash, despite its solid cash runway. Generally speaking, a listed business can raise new cash through issuing shares or taking on debt. One of the main advantages held by publicly listed companies is that they can sell shares to investors to raise cash to fund growth. By comparing a company’s annual cash burn to its total market capitalisation, we can estimate roughly how many shares it would have to issue in order to run the company for another year (at the same burn rate).
Magenta Therapeutics’s cash burn of US$62m is about 14% of its US$450m market capitalisation. Given that situation, it’s fair to say the company wouldn’t have much trouble raising more cash for growth, but shareholders would be somewhat diluted.
So, Should We Worry About Magenta Therapeutics’s Cash Burn?
On this analysis of Magenta Therapeutics’s cash burn, we think its cash runway was reassuring, while its increasing cash burn has us a bit worried. Based on the factors mentioned in this article, we think its cash burn situation warrants some attention from shareholders, but we don’t think they should be worried. While we always like to monitor cash burn for early stage companies, qualitative factors such as the CEO pay can also shed light on the situation. Click here to see free what the Magenta Therapeutics CEO is paid..Of course Magenta Therapeutics may not be the best stock to buy. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.
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If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.